The Investment Climate section of today's Views shows that earnings are rising, inflation is falling and interest rates are rising. According to our Truth Chart, (See VectorVest Views of 03/21/03 and 03/28/03), this combination of circumstances is called a Case (3) Bull Market Scenario. It is quite unusual and normally doesn't last very long. Why is it called a Bull market scenario and why won't it last long?

The key to every Bull market is visible evidence of rising corporate earnings. VectorVest uses the stocks in the S&P 500 to analyze earnings performance. We simply open the S&P 500 WatchList, make a graph of the summary line and examine the 50-day MA of EPS. The data is shown weekly in the Investment Climate section of this report. When the Trend Indicator is above 1.00, earnings are rising. The indicator currently stands at 1.11. You may see a graph of this data by clicking on Graphs in the Main Tool bar, clicking on Market Climate Graphs; then clicking on S&P Earnings and S&P Earnings VV. Yes, earnings have been rising, but note that the trending indicator is not as high as it was last year.

So far this year, second quarter earnings have been shown to be rising nicely and stock prices have been responding to the good news. In fact, most of the major indexes have been hitting four-year highs. Since rising earnings drive stock valuations higher, it is logical that they drive prices higher. But everything on Wall Street is not logical. For example, falling inflation rates should lead to lower interest rates, but interest rates are rising right now. What is going on?

Dr. Alan Greenspan, Chairman of the Federal Reserve Board, is responsible for maintaining monetary stability here in the United States. To do this, he along with his Board of Governors manipulate the supply and the cost of money depending upon their analysis of the economy, inflation and other factors. They decrease the supply of money and raise interest rates when they believe the economy is overheated and inflation is moving higher. They do the opposite when the economy is weak and needs to be revived. More often than not, they overplay their hand and cause boom and bust cycles.

They raised interest rates too much in 1999 and 2000, bursting the stock market bubble and causing an economic recession. Then they desperately lowered rates to 45-year lows in 2002 and 2003 to resuscitate the stock market and the economy. If we are to believe Dr. Greenspan, the economy is fine now and inflation is not a problem. But he will continue to raise interest rates anyway. He wants to return the Federal Funds rate from a historically low level of 1.00% two years ago, back to its normal level of about 1.5% higher than the inflation rate. If one uses the 2.50% inflation rate shown by the Consumer Price Index, his target Fed Funds rate would be 4.00%. Since the current Fed Funds rate is 3.25%, and he has been raising interest rates in 0.25% increments, one would expect that there are three more 0.25% increases to go. Will this mark the end of the Bull market?

The only way to know is to refer to the VectorVest Investment Climate wherein the basic trends of earnings, inflation and interest rates are analyzed each week. As long as earnings continue to rise, we will be in a Bull Market Scenario.

P.S. Make sure to read next week's Strategy of the Week.